Volume Slowdown? Who Cares!

Now that third-quarter 2016 investment sales statistics are in for the New York City marketplace, we can report that the trends we have seen throughout the first half of the year are continuing. However, as the volume of sales continues to slow, property values are remaining strong, and that has me feeling more optimistic than I have in some time.

If you have read this column over the past couple of years, or heard me speak at industry events, you know that I have been trying to draw conclusions about where we are in the cycle by considering whether 2014 was similar to 1988 or 1998. All three of these years have been cyclical peaks in the number of properties sold in the city. This metric is most significant because we believe it is the best indicator of market activity. (Dollar volume can be skewed significantly by extraordinarily large transactions.) However, the aftermath of 1988 and 1998 were profoundly different. After 1988, the market went into a sharp decline, exacerbated by a stock market crash in 1987, followed by the Savings and Loan Crisis in the early 1990s.

In 1998, we had been five years into an up-cycle and many of my clients believed that the market was going to correct again, forcing many of them to sit on the sidelines. In reality, while volume dipped subsequent to 1998, values continued to climb and did so for the next nine years in a row. This occurred despite the fact that we had a recession in the early 2000s caused by the dot.com bubble burst. Yes, the volume of sales dropped to below average levels for the period between 2001 and 2004, values continued to steadily improve.

But based on current activity that we are seeing on a number of projects that we are handling, bidding levels continue to positively surprise us—and I’m beginning to feel very much like the analogy of 1998 is more applicable to today’s conditions. True, land and hotel values are challenged but other segments are remaining strong and, thus far, resilient. It appears as if the market is simply taking a deep breath, in terms of volume, and a major correction in property values across the board does not appear to be around the corner.

Through the first three quarters of the year, the volume of investment sales is clearly facing headwinds. The dollar volume of sales is on pace for $59.2 billion, which would be a 23 percent reduction from the $77.1 billion of sales that occurred in 2015. The number of properties sold is on pace for 4,603, 11 percent below the 5,191 sales that occurred last year.

These figures were not quite as negative at the end of the first half of the year, and I mentioned, at that time, that we expected the numbers to get worse as the year progressed and the hangover of contracts signed in 2015, which closed in 2016, artificially skewed the numbers higher. This appears to be playing out.

The $12.2 billion of sales that occurred in 3Q16 is the lowest quarterly total we have seen in 13 quarters and the 1,061 sales that occurred in that quarter is the lowest total we have seen in 14 quarters. We expect to see these numbers drop even further in 4Q16 as the malaise in the market over the past several months shows up in the statistics.

However, on the property value front, average prices per square foot are on pace in 2016 for an average of $540 per square foot average in 2016. If this rate continues, it would reflect a 10 percent increase over the $491 per square foot average last year. Notably, the appreciation rates are positive in every geographic submarket with Brooklyn leading the way at 19 percent, followed by the Bronx at 18 percent, Manhattan at 16 percent, northern Manhattan at 12 percent and Queens at 6 percent. Each of the resulting price-per-square-foot averages, in those submarkets, would be all-time records.

Similarly, capitalization rates continue to compress across the board with a market-wide average of a 16 basis point drop year over year. The largest amount of compression occurred in the Bronx, at 59 basis points, and the smallest cap rate compression was in Manhattan, at 6 basis points.

To the extent that there is not a catalytic event, or a significant degradation in underlying fundamentals, it could be that we are headed for a period similar to the early 2000s with annually lower volumes but steadily rising values. Demand drivers support this position with domestic and international buyer interest in New York City assets never higher. Stay tuned.